Page 119 - Economics

CONFIRMING PAGES

PART ONE
90
Introduction to Economics and the Economy
TABLE 5.4 Mexico’s Production Possibilities Table (in Tons) TABLE 5.5 U.S. Production Possibilities Table (in Tons)
Production Alternatives Production Alternatives
Product A B C D E Product R S T U V
Avocados 0 20 24 40 60 Avocados 0 30 33 60 90
Soybeans 15 10 9 5 0 Soybeans 30 20 19 10 0

country can supply us with a commodity cheaper than we perhaps because of better technology. The United States
can make it, better buy it of them with some part of the has an absolute advantage (relative to Mexico) in producing
produce of our own industry, employed in a way in which either soybeans or avocados.
1
we have some advantage.
But gains from specialization and trade between the
Nations specialize and trade for the same reasons as United States and Mexico are possible even under these
individuals: Specialization and exchange result in greater
overall output and income. CONSIDER THIS . . .
In the early 1800s British economist David Ricardo ex-
panded on Smith’s idea by observing that it pays for a person A CPA and
or a country to specialize and trade even if some potential House
trading partner is more productive in all economic activities. Painter
We demonstrate Ricardo’s basic principle in the Consider
This box to the right. You should read it before plunging Suppose that
into the more elaborate analysis of comparative advantage. Madison, a certi-
fied public ac-
countant (CPA),
Comparative Advantage: is a swifter
Production Possibilities Analysis painter than
Mason, the pro-
The simple example in the Consider This box shows that fessional painter she is thinking of hiring. Also assume that
specialization is economically desirable because it results in Madison can earn $50 per hour as an accountant but would
more efficient production. Now let’s put specialization into have to pay Mason $15 per hour. And suppose that Madison
the context of trading nations and use the familiar concept would need 30 hours to paint her house but Mason would
of the production possibilities table for our analysis. need 40 hours.
Should Madison take time from her accounting to paint her
Assumptions and Comparative Costs Suppose own house, or should she hire the painter? Madison’s opportu-
the production possibilities for one product in Mexico nity cost of painting her house is $1500 ( 30 hours of sacri-
and for one product in the United States are as shown in ficed CPA time $50 per CPA hour). The cost of hiring Mason
Tables 5.4 and 5.5 . Both tables reflect constant costs. Each is only $600 ( 40 hours of painting $15 per hour of paint-
country must give up a constant amount of one product to ing). Although Madison is better at both accounting and paint-
secure a certain increment of the other product. ing, she will get her house painted at lower cost by specializing
in accounting and using some of her earnings from accounting
(This assumption simplifies our discussion without to hire a house painter.
impairing the validity of our conclusions. Later we will Similarly, Mason can reduce his cost of obtaining accounting
allow for increasing costs.) services by specializing in painting and using some of his in-
Also for simplicity, suppose that the labor forces in the come to hire Madison to prepare his income tax forms. Sup-
United States and Mexico are of equal size. If the United pose Mason would need 10 hours to prepare his tax return,
States and Mexico use their entire (equal-size) labor forces while Madison could handle the task in 2 hours. Mason would
to produce avocados, the United States can produce sacrifice $150 of income ( 10 hours of painting time $15
90 tons compared with Mexico’s 60 tons. Similarly, the per hour) to do something he could hire Madison to do for
United States can produce 30 tons of soybeans compared $100 ( 2 hours of CPA time $50 per CPA hour). By using
to Mexico’s 15 tons. So output per worker in the United Madison to prepare his tax return, Mason lowers the cost of
getting his tax return prepared.
States exceeds that in Mexico in producing both goods,
What is true for our CPA and house painter is also true for
nations. Specializing enables nations to reduce the cost of ob-
1 Adam Smith, The Wealth of Nations (New York: Modern Library, 1937), taining the goods and services they desire.
p. 424. (Originally published in 1776.)

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